A commodity is a raw material or primary product traded in units that are comparable when they meet an agreed specification. Wheat, crude oil and copper are examples. The specification matters: a price for one grade, delivery point or delivery period need not be the price relevant to a factory, trader or hedge.
In physical markets, standardisation allows buyers to source an acceptable good from different suppliers. It does not make every variety of that good interchangeable. A refinery needs suitable crude delivered where and when it can process it; a financial exposure bearing the name “oil” may reference something else.
Specify the good before comparing prices
A commodity quotation needs more than a product name:
- Quality or grade: purity, moisture, chemical composition or another agreed standard.
- Quantity and unit: tonnes, barrels, bushels or another defined measure, together with the currency per unit.
- Location: the warehouse, terminal, hub or other delivery point.
- Time: immediate or near-term delivery in a spot market, or an agreed future delivery date or window.
As a real example, the standard LME Copper futures specification identifies Grade A copper, a 25-tonne lot, a quotation in US dollars per tonne and physical settlement. The exchange also sets chemical, shape and approved-brand requirements. This is a particular contract, not a universal size or quality rule for copper transactions.
Differences between the material a business uses and the material its hedge references create basis risk. Transport costs, local supply and the cost of converting one grade into another can prevent prices from moving together perfectly.
The quote is not the amount invested
Consider a fictional linear futures contract referencing 5 standard units of a specified raw material. Its quotation is USD 20 per unit, so its notional amount is 5 × USD 20 = USD 100. “Standard unit,” Grade Q and Depot A are invented specifications for this illustration.
Original synthetic specification diagram. Quantity times the USD price per unit gives the contract’s notional exposure. Neither an exchange lot size nor a current market price is implied.
That reference amount measures the scale of the exposure. It is not the futures contract’s market value or the margin deposit. A futures contract creates contractual obligations and settlement cash flows; it does not hand over the underlying inventory when the trade is opened. Physically deliverable contracts can create delivery obligations for positions held into the delivery process, under the product’s rules. CME’s delivery overview explains why operational ability to deliver or receive the good matters.
What does “commodity exposure” actually hold?
| Position | What it gives exposure to | What else matters |
|---|---|---|
| Physical inventory | The specified material available to use or sell | Storage, insurance, deterioration and transport, as applicable |
| A commodity future | The price of a specified contract and expiry | Daily settlement, margin funding and its delivery or cash-settlement rules |
| Shares in a producer | Ownership in a business that produces the material | Operating costs, financing, other businesses and the producer’s own hedges |
| A strategy tracking a commodity futures index | A rules-based mix of futures exposures | Contract selection, weights, rolling and the return convention |
Producer shares can respond differently from the raw material: a producer may already have hedged its selling price, and its financing and other operations also affect shareholders. PIMCO’s commodity explanation discusses these differences.
A futures index is also a distinct return series. For example, the S&P GSCI methodology defines futures holdings and rolling rules; its excess-return and total-return versions differ because the latter includes interest on hypothetical committed funds. A fund seeking to track such an index adds its own fees and tracking differences. A rise in a physical commodity’s quoted price therefore does not, by itself, determine the return of a producer share or a futures-based investment.
For the connection from physical inventory to storage, forward curves and hedging, continue with the Finance Primer’s Commodities lesson. The full lesson is available with a free signed-in account.
Sources
- John C. Hull, Options, Futures, and Other Derivatives, ninth Global Edition, Pearson, 2018, §2.2, pp. 48–50; §5.1, p. 126; Chapter 34, §§34.1–34.2, pp. 797–798.
- London Metal Exchange: LME Copper contract specifications, checked 27 October 2026.
- CME Group: 101 Overview—Delivery.
- S&P Dow Jones Indices: S&P GSCI Methodology, August 2026, “Index Objective and Overview” and “Calculation of the S&P GSCI and Related Indices,” pp. 4 and 12.
- PIMCO: Understanding Commodities, “How can I invest in commodities?”